... but US holds the torch for oil

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It's probably the worst global oil shock since the
1970s, but there's more gas-guzzling vehicles on US roads than
ever, and few seem concerned, writes Mark Coultan.

IN MARCH the investment bank Goldman Sachs issued a report
saying that the price of oil could spike to between $US50 and
$US105 a barrel.

The report predicted that the world was entering the early
stages of what it called a "super spike" period. It was a
self-fulfilling prophecy, as the price jumped on its
publication.

The report was wildly derided and criticised. Merrill Lynch
issued a report saying such talk was premature. But several months
later Goldman Sachs' prediction doesn't look so alarmist.

When the markets opened on Monday morning, hurricane Katrina
pushed the price of oil above $US70 a barrel. Added to more
fundamental factors such as instability in the Middle East and
surging demand in China, a "supply-side shock", as economists call
it, has arrived.

Oil production from the Gulf of Mexico supplies 7 per cent of US
demand. As well, its offshore oil port can handle 1 million barrels
of oil a day, or more than 7 per cent of the oil that America
imports. Eight major refineries, representing 10 per cent of the
nation's capacity, in the New Orleans area are closed.

Of course, the effects of hurricane Katrina will be temporary,
although it is unclear how long the supply chain will take to
recover.

George Bush had lunch with the chairman of the Federal Reserve,
Alan Greenspan, on Thursday and announced that the hurricane was
likely to cause a temporary disruption to oil supplies. He asked
people to conserve petrol, although it seems unlikely appeals to
their good nature will have much effect. In fact, there were queues
over the southern US as motorists started panic buying.

President Bush said some of the pipelines had been damaged and
were only operating at 50 per cent capacity. He announced he was
waiving a rule that only US-crewed ships could operate between US
ports in order to facilitate shipping oil supplies between
cities.

The President didn't mention what effect the price of petrol
would have on the management of the economy. The Federal Reserve
has been ratcheting up interest rates for months. But the price of
oil has much the same effect of cooling demand, so it may cause the
Reserve to pause.

This week The Wall Street Journal quoted Daniel Yergin,
an oil historian and chairman of the Cambridge Energy Research
Associates, as saying: "The risk is that households will have to
spend so much of their consumption on energy that they will have to
reduce expenditure on all other items. During the next few days,
this could turn out to be one of the biggest energy shocks since
the 1970s  perhaps even the biggest since then  because
it involves refineries and natural gas as well as oil
production."

The effect for US motorists has been immediate. The price of a
gallon of petrol immediately shot over $US3 a gallon. While for
most of the world that seems cheap at just over $A1 a litre, for
Americans, raised on cheap petrol prices, it was unprecedented.
It's been more than 30 years since the oil price shock of the
1970s, but the US way of life is still largely based on an
assumption of cheap oil  at least by world standards.

US cities have continued to grow with large suburban areas while
inner cities, with a few exceptions, continue to languish. In
addition, exurbs (or extra-urbans), have sprung up in massive
numbers in the past 15 years. Fuelled by the work-from-home
internet revolution, these communities of large houses on big
blocks in rural areas, beyond the suburbs of the cities, could not
exist without cars. Public transport is almost non-existent.

The transportation of choice for these residents, in fact for
many US families, is gigantic four-wheel-drive vehicles.

These vehicles, like the exurbs themselves, are favoured for
their safety and space, all part of the "cocooning" phenomena of US
life, where 300 million people try to get away from each other, or
at least the people they don't like.

The 4WD market, which now makes up more than half the vehicles
sold in the US, is just about the only thing keeping the struggling
General Motors alive. Although Japanese car manufacturers have
captured much of the small-car market  and in particular the
burgeoning fuel-efficient electric-petrol hybrid car market 
Detroit has sold more and more 4WDs.

The fuel economy of US cars has barely improved over the past 20
years, after big improvements in the 1970s.

The National Highway Transportation Safety Administration
released proposals for new fuel economy regulations last week, just
as hurricane Katrina was brewing.

But the proposals seemed designed more to help US car
manufacturers than reduce America's thirst for oil.

The new regulations would help the Detroit manufacturers from
having to meet fuel economy averages for the entire fleet. Instead,
it would introduce fuel averages based on the footprint, or size,
of the vehicle.

The regulations would mandate modest improvements in fuel
economy for each class of vehicle, but there is no guarantee that
overall demand would moderate, if consumers choose to continue
buying large vehicles. Despite continuing concerns about the US's
dependence on foreign energy, for policymakers, this was about
"consumer choice"  and helping struggling manufacturers.

Because the small-car market is dominated by foreign
manufacturers, the 4WD market is the most profitable for US car
makers.

The price of petrol is also having political effects. Opinion
polls consistently show it rates second behind the Iraq war as an
issue of concern. A new CBS poll has President Bush's approval
rating as down to 41 per cent  its lowest level ever. This
rating will not be helped by the New Orleans disaster, for which
President Bush's administration has been bitterly criticised for
the slowness of its response.

The US's love of cars partly explains its addiction to oil.
Although the price of petrol has risen for the past 12 months,
consumption has not been affected. Indeed, it has risen.

This is partly explained by the affluence of America. Almost 25
years ago, spending on petrol represented 6.2 per cent of personal
disposable income, according to Goldman Sachs. Today it represents
5 per cent. In other words, despite the high price, people can
afford to pay.

Instead of leaving the car at home, most economists predict that
consumers will reduce spending elsewhere. Some predicted it will
help the housing price bubble. Others think it could affect
household spending. There has been concern that Wal-Mart, the
nation's largest retailer, could suffer. The Goldman Sachs report
predicted that higher prices could, in the end, be good news, as it
would lead to increased production and a drop in demand.

But at what point would these market forces come into play?

It said: "Perhaps the ultimate answer to how high oil prices
need to go before demand destruction occurs is derived from knowing
when American consumers will stop buying gas-guzzling sport utility
vehicles and instead seek fuel-efficient alternatives. We estimate
that US gasoline prices may need to exceed $US4 per gallon."

It's unlikely that prices will reach that level soon  many
economists predict that oil will soon start to fall. But while
hurricanes of the force of Katrina are extremely rare, the peak
storm season has not even arrived.

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